Market Failure Flashcards
What is market failure?
Market failure is when scarce resources are not allocated correctly by the free market, resulting is a loss of welfare.
What is a public good?
A public good is one that has these 2 characteristics:
- It is non-rival (e.g. street light)
- It is non-excludable (e.g. military protection of a country)
Some public goods change characteristics if they are over-consumed. One example of a public good such as this would be:
In predominantly rural societies up to the 18th and 19th centuries in England, some land was held in common, where farmers could have animals grazing. As long as there were not too many animals, one extra animal would nave no effect of any other farmers animals grazing - meaning it was Non-rival. |t was also non-excludable because the land was held in common by the law.
However, if too many animals grazed, an extra animal grazing would result in less food available for all the other animals. At worst, the land would be so overgrazed it could no longer support any animals.
What is the tragedy of commons?
The tragedy of commons occurs when there is a change in the value of the externality associated with its use. For example, too many animals grazing leads to less grazing available for other farmers, so the farmer who added another animal has created a negative externality in production for other farmers.
The tragedy of commons can apply to a number of environmental goods today including:
- Fish stocks - one boats catch means less for other boats. They used to be a public good.
- Forests used to be a public good but today deforestation is a direct cause of global warming, destroys habitats and decreases biodiversity.
- Water -Rivers, waterways, seas can absorb a certain amount of dumping material and remain clean, but beyond a certain level it kills wildlife and means water taken from rivers and seas needs to be treated before use.
The lack of property rights
Example: Since no-one owns the atmosphere, a chemical plant in the UK producing chemicals into the atmosphere, which may kill trees in another country, will face no consequences.
For example, if no one owns a river, firms among the river can dump waste into the river and create negative externalities on production. Or, if no one owns the atmosphere, a gardener can burn rubbish in their gardens causing a nuance to neighbours, leading to negative externalities.
What is a Merit good?
A good where consumption is regarded as beneficial to society, for example education and green technology. As the social marginal benefit is higher than the private marginal benefit, creating a loss of welfare.
What is a demerit good?
Consumption is deemed harmful, e.g. high caffeine energy drinks, tobacco products.
Unintended consequences (government failure?)
Government intervention, or withdrawal of intervention in a market, can have unintended consequences. One example of this may be donating blood in exchange for money, funded by the government. In the UK, people give blood willingly for no exchange of money, and all blood is screened before use. However in most countries, people are paid to give blood, and in many this may be fuelling people who are desperate addicts or ill (HIV) to donate. This could be a particular problem in developing countries, where blood may not be screened before use. Therefore, a market mechanism that provides incentive to give blood can give a worse outcome than a voluntary system where no financial incentives are given.
The environment
- Is a provider of resources - food, water, minerals, copper etc.
- An absorber of waste emitted by human activity (Greenhouse gasses)
- A provider of amenities such as recreational opportunity and beauty.
These three functions impact on each other, for example taking resources may destroy beauty such as the destruction of if natural landscape
Economic growth and the environment
Some economists and environmentalists believe that environmental degradation is linked to development and income per capita.
Government polices to reduce environmental market failure
A range of polices to reduce environmental market failure are available to governments and supra-national bodies such as the EU.
1) Regulations and environmental standards. For example the government could lay down maximum pollution levels or even ban some pollution creating activities. Production bans should be put in place if the MSC is higher at all levels of output than any benefit to be gained.
2) Extending property rights - a polluter would have to pay the full social cost of its activities by paying where production = the socially optimum point.
3) Environmental taxes - encourages businesses to produce less or put prices up, therefore either way will bring it closer to socially optimum point of production.
4) Environmental subsidies such as for green energy.
5) Tradable pollution permits
6) Information provision - the government may provide information or run information campaigns, e.g. smoking
7) Government expenditure - spending directly on environmental issues - e.g. collecting rubbish
8) Public-private partnership - governments may work with private sector firms
